In pursuing its brave new world of green energy, California will inevitably experience the vicissitudes of its pioneering undertaking - the twists and turns on the road to TLC (transparency, longevity, certainty)

Attaining Stability in the California Renewables Market

Back in 2009, Deutsche Bank Climate Change Advisors (“DB”) published a study tracking 270 major climate policies in 109 countries. The study concluded that successful programs were those that offered investors “TLC” – transparency, longevity, certainty - a comprehensive, stable, and predictable set of rules that infused markets with a sense of clarity and security. The research went on to find that the United States lacked TLC and was lagging behind other countries, notably China and Germany A more recent DB paper found little to cheer about at the Federal level in the U.S. Referring to the gridlock in Congress on energy policy, the paper noted “…while Congress stumbles, the US stands to fall behind”. While other countries have adopted strong policy frameworks with integrated plans and clear targets, incentives and mandates, the Federal regulatory regime has been described as a “chaotic patchwork, constantly changing”, with short-term approaches that amount to nothing more than just stop gap measures, with many sunsetting in 2011. A glaring example of this shortsightedness is Congress’ failure thus far to extend the Production Tax Credits (“PTCs”) for wind projects, which expire at the end of 2012. Given the long lead time needed for siting, permitting, interconnecting, and financing wind projects, the industry has come to a virtual standstill with only projects certain of qualifying for the PTCs moving forward. Other PTCs expire in 2013 and other programs such as the 1603, 1703, and 1705 incentives all ended last year. (The recently proposed rule for reducing greenhouse gas emissions from new power plants, announced by the Obama administration, may restore some credibility to the US, but it is too early to tell.)

Nevertheless, although the US is losing ground, it is still a significant economic force in the clean energy arena. This is due in some measure to the various programs referred to above but even more so because of initiatives at the State level. Some 30 States now have some kind of renewable energy and energy efficiency standard. The standout among them is California with the most ambitious goals in the country. California’s most recent step is called the California Renewable Energy Resources Act (“CRERA”), which obligates all California electricity providers to obtain at least 33% of their energy from renewable resources by the year 2020.

CRERA, which took effect in December last year, is the latest in a series of California laws enacted over the last 6 years which are designed to radically change the State's energy profile, reduce its greenhouse gas emissions, and reinforce its position as a global environmental leader. At the same time, these measures are intended to attract capital to the State, drive economic activity, and produce jobs here at home. These laws include California's landmark AB 32 (2006), which obligates the State to decrease it emissions down to 1990 levels by 2020, SB 1368 (2008) which prohibits the importation into California of electricity from plants failing to meet certain environmental standards, AB 2021 which mandates the adoption of energy efficiency targets by utilities, and various Feed-in-Tariff mechanisms. Additionally, Governor Brown last year called for the development of 12,000 Megawatts of local renewable energy and 8,000 Megawatts of “utility scale” renewable energy facilities.

Furthermore, California, recognizing the need to streamline permitting has enacted not one, but three, amendments to the California environmental Quality Act (“CEQA”) and has launched the Desert Renewables Energy Conservation Plan (“DRECP”) to identify suitable areas for renewables development and facilitate the issuance of permits. The DRECP joins four State and Federal agencies into the Renewable Energy Action Team, with the goal of identifying RESAs (Renewable Energy Study Areas). The Bureau of Land Management is also working to enable renewable energy development to proceed on an expedited basis with the initiation of a Programmatic Environmental Impact Statement and the identification of Solar Energy Zones.

California’s bold leadership stance on clean energy has clearly paid dividends in terms of attracting investment to the Golden State. It is reported that clean tech investment in California exceeded $2 billion in 2009, 60% of the total in North America. Venture capital investments in California approximated $6.6 billion from 2006 to 2008, more than all other states combined. California attracts 60% of the clean-tech venture capital in the entire U.S. Clean energy jobs and businesses have grown much faster than the economy as a whole in the past fifteen years, and have continued to grow even during the economic downturn.

However, if we ask whether we presently have TLC the California renewables market, the answer has to be: “not yet, but we’re getting there”.

First, it needs to be stated that CRERA itself has fomented some confusion by its tortuous formulae for determining what kinds of energy would qualify under the three allowable “buckets” the law stipulates. While the California Public Utilities Commission (“CPUC”) may have now cleared up some of the ambiguities, the utilities, under the gun to meet the 2013, 2016 and 2020 milestones in the law, have necessarily proceeded with urgency to enter into contracts that would be sure to satisfy the criteria of Bucket 1 power (generally, energy produced within California or having its first point of interconnection to a California balancing authority). This incongruous combination of alacrity and safety on the part of utilities has, in turn, invited unqualified speculators into the market which have fueled an artificial inflation of land prices and have clogged the interconnention and RFP queues with some under-capitalized and ill-conceived projects which will never see the light of day, but which must, nevertheless, be vetted one by one by the purchasing utility. Further, the recent moratorium by the California Energy Commission on biomethane, which now casts a pall of doubt over the future eligibility of biomethane as a Bucket 1 resource, is also symptomatic of an unsettled, evolving regulatory environment still looking for solid ground.

The market is also being pulled in diametrically opposing directions. The utilities continue to demand ever lower prices while, at the same time, ratcheting up the amount of deposits and other payments to be posted by developers to navigate the complex process of interconnection and power purchase agreements. To compound matters, local jurisdictions are also trying to extract monies from solar projects to benefit their communities, thus putting upward pressure on prices. One such effort in Riverside County, dubbed the “sun tax”, has now been challenged as unconstitutional, thus placing the particular fee regime and others that mimic it in limbo. This means that utilities, developers, lenders, and local jurisdictions must either wait, or somehow adapt, until the legal proceedings are over.

In the meantime, the effort to devise some cogent framework as to where the renewable resources (especially large solar) will be located and how the transmission to take the power to urban centers will be constructed continues. Here, the DRECP initiative, bringing together four critical Federal and State agencies, is a crucial step in the right direction. But the work takes time and temporarily undermines market stability as investors ponder whether a particular project will make the cut, or be cut. Transmission development also remains an intractable challenge, with cost issues and the need to achieve a fair allocation between those who foot the expense and those who reap the benefit, and between the private and public utilities whose different business models have rendered joint transmission construction and shared projects elusive.

The Governor’s 12 Gigawatt local renewables objective is to be applauded but, here too, it has resulted in some transitory uncertainty in the market. Utilities must plan for distant horizons and, to them, a 33% RPS, which must necessarily include load reduction (through energy efficiency and demand management mechanisms) to attain and maintain the percentage of renewables in comparison to total load, is not wholly compatible with a 12 Gigawatt mandate which, ostensibly, is a call to augment load. Further, implementing such a requirement entails a fundamental shift in how California utilities have traditionally procured and distributed power. Instead of importing the energy from large centralized facilities and distributing it to consumers, utilities will now have to retool to receive intermittent power in reverse order from sources which previously have been the end point recipients. Of course, this has been accomplished in other places and we can learn from both the successes and missteps of others. Again, however, in the meantime, the market feels in flux.

Overhanging all of this uncertainty is the question of electricity rates at a time of economic recession. CRERA contains various mechanisms to attempt to avoid an explosion in rates, tasking the CPUC to develop controls on expenditures by the Investor Owned Utilities (“IOUs”) and providing “escape” clauses where IOUs cannot comply with the law’s dictates because of fiscal limitations or other factors. The statute requires the CPUC to establish a limitation for each seller on procurement expenditures for renewables. In developing the cost limitations, the CPUC must avoid “disproportionate rate impacts” and must “ensure rates are just and reasonable, and are not significantly affected by the procurement requirements of this article.” The governing bodies of Publicly Owned Utilities (“POUs”) are accorded the right to adopt similar cost control measures. How these provisions will play out is simply not clear at this point.

As the foregoing attests, we have yet to attain TLC in the California renewables market, but there is much cause for optimism as we continue to construct the kind of clear and consistent regulatory framework that is the foundation for capital formation and the attraction of investment, with its attendant clean technologies and well paying jobs. We must understand that leadership and courage invariably entail risk and uncertainty. In pursuing its brave new world of green energy, California will inevitably experience the vicissitudes of its pioneering undertaking – the twists and turns on the road to TLC.

David Nahai is a Partner at Lewis Brisbois Bisgaard & Smith and President of David Nahai Consulting Services, LLC. He is the former CEO and Commission President of the Los Angeles Department of Water and Power and Senior Advisor to the Clinton Climate Initiative.